April 6, 2017 / 10:55 AM / 8 months ago

Fitch Rates Tewoo's USD Notes Final 'BBB-'

(The following statement was released by the rating agency) HONG KONG, April 06 (Fitch) Fitch Ratings has assigned Tewoo Group Finance No 3 Limited's USD300 million and USD200 million senior unsecured notes due 2020 and 2022, respectively, final 'BBB-' ratings. Tewoo Finance 3 is an indirect subsidiary of Tewoo Group Co., Ltd. (BBB-/Stable). The notes are rated at the same level as Tewoo's senior unsecured rating because they are unconditionally and irrevocably guaranteed by Tewoo. The assignment of the final rating follows the receipt of documents conforming to information already received. The final rating is in line with the expected rating assigned on 26 March 2017. KEY RATING DRIVERS Government Linkage Lifts Ratings: Tewoo is a wholly owned subsidiary of Tianjin State-Owned Asset Supervision and Administration Commission (SASAC). Tewoo's rating benefits from a two-notch uplift based on the bottom-up approach detailed in Fitch's Parent and Subsidiary Rating Linkage Criteria. Its standalone rating assessment is 'BB'. Tewoo's position as the largest Chinese commodity trader demonstrates its strategic importance to Tianjin, which is the largest trading hub in northern China. The municipality has plans to develop the trading and logistic industry around the Bohai Economic Rim. The Tianjin government has provided periodic financial support to Tewoo in the form of equity injections and grants. Government support was also evident from the Tianjin SASAC's injection of CNY35 billion in 2014 through another wholly owned subsidiary, Tianjin Tianyuan Investment Co., Ltd., in exchange for 49% of most of Tewoo's key subsidiaries. This injection also helped improve Tewoo's financial profile so it could meet the criteria to establish its finance company, which it did in February 2015. Leading Chinese Trading Company: Tewoo is China's largest commodities trading and metals distribution company by total revenue (2015: CNY403 billion) and volume traded in ferrous metals, non-ferrous metals and coal products. Its trading volume in iron ore in 1H16 was about 3.9x that of the second-ranking trader and totalled the equivalent of about 23% of China's imported iron ore volume, giving it a dominant market presence. Agency Trading, Vertical Integration: More than 70% of Tewoo's trading business is agency trading, which has lower risk as it is passes on pricing and forex risks to counterparties. The company aims to increase this ratio to over 80% to further stabilise profitability. Tewoo's expansion into logistics and financial services to enhance its traditional agency business has already improved its gross profit margin to 2.4% in 1H16, from 2.2% in 2015 and 1.5% before that. Its EBITDA margin also expanded to 1.5% in 2015, from 0.9% in 2014. Only part of this margin improvement was due to lower commodity prices, which had stabilised by 1H16. Product and Geographical Concentration: Tewoo's major trading activities focus on metals, especially steel. Around 60% of its gross profit is from selling iron ore, coking coal and steel products in China. This leaves the company dependent on the overall health of China's ferrous metals industry. Risks from this concentration are increasing along with its market share, as evident in the CNY21 billion increase in working capital between 2014 and 1H16 to support customers. Tewoo is expanding into other areas, including energy and chemicals, but it will take time to diversify its product portfolio and strengthen its business profile. Debt Surge to Support Expansion: Tewoo's net debt more than doubled to CNY29.9 billion at end-1H16, from CNY12.2 billion at end-2014. Its net working capital (that only considers trade and bills receivables and payables, inventories, prepayments and customer deposits) rose to CNY59 billion, from CNY38 billion between 2014 and 1H16. Tewoo has been offering longer credit terms to counterparties to support them during China's steel industry downturn. However, it has been able to pass on the additional financial expenses to customers, as reflected in its stable pre-tax margin (excluding investment income) of 0.4% in 1H16 and 0.3% in both 2015 and 2014. Stable Credit Metrics: Fitch expects Tewoo's FFO net leverage to remain below 4.0x as the steel industry stabilises. Tewoo's FFO net leverage remained between 3.5x and 4.0x in 2013-2015. Its higher return on working capital and return on capital employed in 2015, at 10.4% and 6.5%, respectively, compared with 8.7% and 4.9%, respectively, in 2014, shows that Tewoo was compensated for extending more favourable terms to counterparties. KEY ASSUMPTIONS Fitch's key assumptions within the rating case for Tewoo include: - Stable sales volume and pre-tax profit margin - Proportion of agency business remaining above 80% - No change in working capital composition - Stable capex intensity and dividend payout rate RATING SENSITIVITIES Fitch does not expect positive rating action on Tewoo in the next 12 to 18 months due to its product and geographical concentration and high debt level, but developments that may, individually or collectively, lead to positive rating action over the longer term include: - A significant increase in scale and product diversification - Sustained positive free cash flow - FFO-adjusted net leverage sustained below 2.0x - Sustained total debt/net working capital of below 1.0x (1.3x at end-2015) - Strengthening of linkages between Tewoo and Tianjin SASAC Developments that may, individually or collectively, lead to negative rating action include: - EBITDA margin below 1% over a long period - FFO-adjusted net leverage above 4.0x for a long period - Weakening of linkages between Tewoo and Tianjin SASAC Liquidity Adequate Liquidity: Tewoo holds a large cash balance of CNY55 billion at significant carrying cost, but it provides the company with the financial flexibility to meet the large liquidity needs of its commodity-trading business. Furthermore, Tewoo still has access to CNY42.5 billion in unused banking facilities, which are mainly for trade financing purposes. The availability of these banking facilities gives Tewoo flexibility in how it uses its large cash hoard. Contact: Primary Analyst Fiona Zhang Associate Director +852 2263 9909 Fitch (Hong Kong) Limited 19/F Man Yee Building 68 Des Voeux Road Central, Hong Kong Secondary Analyst Laura Zhai Director +852 2263 9974 Committee Chairperson Ying Wang Senior Director +86 21 5097 3010 Date of Relevant Rating Committee: 1 December 2016 Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. 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